"Economic Indicators Give Further Confirmation For Your Entry (and Exit) Timing of The Markets"
"There Are Hundreds (Possibly Thousands) of Economic Indicators
But You Only Need The Indicators
That Are Relevant"
Economic Indicators are a statistical representation of some economic activity. They are instruments that help you analyse a market and attempt to predict the future performance.
There are hundreds of Economic Indicators but we will mention only the more common ones here - the ones that we think are relevant.
Economic Indicators can be classed into three categories:
- Leading indicators - can change because of economic activity ad therefore used in predicting future trends
- Lagging indicators - historical data and any change to these are usually after a trend has been established
- Co-incident indicators - usually provide information about the current state of the economy
As well as not being finacial advisors, we are also not economists, but we have learned to assess what we think is important. And of these three categories, we only interest ourselves in the first two - leading and lagging indicators with only a passing comment on co-incident indicators.
"Leading Economic Indicators"
Leading Indicators usually, but not every time, tend to change before the economy itself changes, which makes them a useful short-term predictor of the economy.
The best example is the Stock Market itself. It usually looks 9 months into the future, which means that it declines before the economy turns down and conversely, the Stock Market generally picks up before the economy starts to recover.
We have studied Leading Economic Indicators and decided that the most important ones, to us and maybe to you, are the following:
- The Stock Market itself - a rising Stock Market is an indication that company earnings are on the up, which would imply that the overall economy is booming, or getting ready to boom. However, the Stock Market is not that reliable as an Economic Indicator. It can be manipulated.
- Manufacturing Activity - increases in manufacturing activity can be encouraging. It suggests that there may be greater demand for consumer goods which leads to a growing economy. An increase in manufacturing activity also creates more employment.
- Inventory Levels - high inventory levels can men two different things, demand is likely to increase or there is a current lack of demand.
- Retail Sales - if sales improve, companies can hire more people. In general, an increase in sales means an improvement in the economy overall. However, if this increase in sales is serviced by debt it could mean the opposite - that the economy may go into recession.
- The Housing Market - any decline in house prices might suggest that supply exceeds demand and houses become unaffordable. This will affect jobs in the housing market and thus increase unemployment. The best example of this was the housing crisis of 2007-8 which plunged world markets into recession.
- The Level of New Business Start-Ups - it stands to reason that if more and more businesses (large and small) are starting up this can only be good for the economy. In fact, small busiesses actually hire more employees than large companies and therefore contribute more to employment statistics.
"Lagging Economic Indicators"
A Lagging Indicator usually changes after the overall economy does. And that is generally two or three quarters after the economy changes.
A good example would be unemployment figures. Postitive employmet figures tend to increase two or three quarters after the economy has started to rise.
We have studied the Lagging Economic Indicators and decided that the most important ones, to us and maybe to you, are the following:
- Income and Wages - if all is well in the economy, earnings will rise to keep up with the rising cost of living. But when incomes are in reverse, it is a sign of companies cutting rates and laying off people.
- The Unemployment Rate - the unemployment rate is a measure of the number of people seeking work expressed as a percentage of the total available workforce. When unemployment is high, people have less money to spend and therefore less gets spent in the shops and on household goods etc.
But, unemployment figures can be confusing. Investors using this, and indded any
other indicator, should take extra care in their interpretation.
- The Consumer Price Index (CPI) a.k.a. Inflation - the CPI is an indication of the rise (or fall) in the cost of living. A basket of goods is measured over a period of time, items such as: clothing, shelter, travel costs, food etc.
Economists have argued for centuries over whether inflation is a good thing or a bad thing. It's the same argument with Deflation. On the face of it, Deflation sounds like not a bad idea - prices declining, surely that's good for everyone. Isn't it?
Actually, Deflation is a bad thing. Consumers cut back on spending. This forces retailers to lower their prices because of the lower demand but that only reduces profits, which leads to wages being cut, and staff being laid off and if allowed to continue can lead to a depression such as was seen in the 1930s.
- The Strength of Currency - a country with a strong currency can sell its products overseas at a higher price and import products at a cheaper price. But, there are also advantages of having a weaker currency, a country can draw in more tourists and also import products more cheaply.
A balance somewhere in the middle is the brighter option.
- Interest Rates - when rates increase, banks and other people lending money have to pay higher interest rates to borrow money and conversely, they lend money to their customers and higher rates which means that their customers may be reluctant to borrow. This, in turn, prevents companies from expanding and any growth slow down or stops.
If interest rates are too low, there may be an increased demand for money and increase the likelihood of higher inflation.
"Co-Incident Economic Indicators"
Co-incident Indicators tend to change at around the same time as the economy changes which means they provide information about the current state of the economy.
A good examples of a Co-incident Indicator would be unemployment rate, real earnings, average weekly hours worked.
Coincident Economic Indicators reveal a snapshot of how the economy is performing almost in real time.
For example, if wages have increased since their last reported period, it could be seen that companies are increasing their business. And by paying their employees more means that they are trying to attract more skilled workers.
If a particular employer is not the only one doing this, it could be interpreted that the economy is showing more confidence, particularly in certain sectors.
Just as in Stock Market analysis. No one indicator can possibly give you a true picture.
You cannot use one indicator in isolation, they have to be used in conunction with other indictors to give an overall picture.
A perfect scenario would be if all indicators were pointing in the same direction. That would be perfect, but rarely happens.
A healthy economy is one where consumer sentiment can be seen via the various indicators. And where can you find these indicators?
That is a GREAT question and the best answer we can give is what we do.
We create a spreadsheet for all the Economic Indicators that are of interest to us. We then complete that speadsheet on a monthly basis. Once the spreadsheet is constructed it only takes us 5 minutes to fill in the monthly figures.
As an aside - we also create spreadsheets for all of our data. For example, Financial Ratios.
What we are looking for in all cases is a trend. Is the current trend continuing on its present course or has it just changed. Or changed last month, or a few months ago.
Changes in trends is what you need to look for.
Stock Market Indices